Case Preview

Lease Accounting at FedEx

Krishna an MBA (Finance) student at a premier B-school of India who aspires to be an investment banker, was doing his internship with a renowned financial services firm in Mumbai to complete a 2-month mandatory internship after the first year. His project included financial analysis of FedEx’s financial statement. Being a very enthusiastic student, he had almost completed his analysis on FedEx, most of its financial details, prepared a draft report on FedEx and its financial condition. Before finalizing the draft, he decided to meet his Team Lead Daniel and discuss his findings. Krishna was satisfied with the progress in his work and was expecting an early leave (a week before) from his internship as he had planned to submit the project in next 4 days. He had tentatively planned a Goa trip if he could save a week.

On November 21st 2013, Krishna goes to Daniel to discuss the draft report. While reading his financial report, Daniel observes that Krishna had not considered any off balance sheet information for the analysis. Krishna had overlooked a very important item i.e., the operating lease amount, which was kept off balance sheet. Daniel asks Krishna to go through the FASB’s newly proposed lease accounting changes and then redraft the required analysis as FedEx’s lease amounts might bring a significant difference in the analysis once included in the on balance sheet..................

Exhibits

Exhibit I: Consolidated Balance Sheets

Exhibit II: Consolidated Statements of Income

Exhibit III: Operating Lease Rentals (in $million)

Exhibit IV: Operating Lease Rentals (in $million)

Exhibit V: Operating Lease Schedule (as on May 2013 (in $ million)

Teaching Note Preview

Lease Accounting at FedEx

Synopsis

The case highlights the key issues of how converting off-balance sheet items to on balance sheet affect the financial ratios. This case also helps us to understand the adverse effect to an entity, which has huge amounts in the long term operating lease. The examples of such industries are aircraft, telecoms, etc., which have their major leases as long term operating leases.

Various other aspects of financial statement and disclosure analysis are touched upon in the case along with major focus on Operating Lease Conversions to Capital Lease and its impact in the income statement and the balance sheet.

Case Positioning and Setting

The case can be used to teach specific theories in the subject area of FSDA (Financial Statements and Disclosure Analysis) with examples of the case facts to be worked out by student under the guidance of the instructor.

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$5.48

Rs 0

Product code: FIN-1-0018, FIN-1-0018A, FIN-1-0018B

Abstract

As per the existing standards of the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB), accounting of any lease contract in the lessee's accounting books depends on its accounting classification. If a lease contract is classified as a capital or financial lease, then lessee has to recognize the asset taken on lease under the contract as a lease asset on the balance sheet while also recognizing the present value of lease rentals and other cash outflows with respect to lease contract as a liability on its balance sheet. However, if a lease contract is classified as an operating lease, then lessee does not recognize the asset taken on lease under the contract as an asset on its balance sheet while also keeping the associated operating lease liability off its balance sheet. Thus, as per the existing standards of FASB and IASB, all such lease contracts, which are classified as operating leases, remain off balance sheet. On May 16th 2013, IASB and FASB, as a part of their on-going joint project to converge and revise their existing lease standards, proposed and published a revised Exposure Draft for Lease Accounting. As per this revised Exposure Draft, lessee would be required to recognize lease assets and liabilities in its balance sheet for operating as well as financial/capital leases. This case is about the impact of new proposed Exposure Draft for Lease Accounting on the balance sheet of FedEx, which currently has a very high reliance on operating leases for financing of its assets.

Pedagogical Objectives

To discuss basic principles for recognition of liabilities on a company's financial statements

To discuss potential economic consequences of proposed new rules of accounting for leases on the firm's financial position and performance

Case Positioning and Setting

The caselet can be used for MBA Program/MDPs/EDPs - Finance Management course - to discuss

Concept of Leasing as a funding source

Current Accounting classification of Leases and their accounting

Concept of Off balance sheet financing

Impact of new proposed lease accounting on the financial statements of such companies which currently rely heavily on operating leases

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